Heads of agreement

A heads of agreement describes the key commercial terms of a transaction, but contemplates that a later agreement will govern the transaction. A heads of agreement commonly does not include the final terms of the transaction, as these will generally require further negotiation.

If the parties intend the heads of agreement to be binding, it should contain the following elements to ensure it is legally binding on the parties and not considered merely an ‘agreement to agree’, which is generally of no force or effect:

• an express term stating that the heads of agreement is immediately legally binding. For example, ‘the parties intend to enter into a formal Management Agreement, but in the meantime intend this Heads of Agreement to be legally binding’ or ‘the action of the parties in negotiating fresh or additional terms shall not in the meantime in any way prejudice the full and binding effect of what is now agreed’;
• incorporation of the key elements of the contemplated agreement;
• certain provisions being immediately enforceable; and
• the elements of agreement, consideration, capacity and formalities as described above are satisfied.

It may be useful to include a mechanism for resolving disputes and an express exclusion of other types of legal relationships, eg agency.

Phrases such as ‘subject to contract’ and ‘subject to the preparation of a formal contract’ should be avoided as they imply that the parties do not intend to be contractually bound until the formal contract is executed. This does not preclude making performance of one or more terms of a heads of agreement conditional upon the execution of a formal contract (Masters v Cameron (1954) 91 CLR 353). Other phrases that should be avoided include ‘proposed’ obligations and the promise to ‘consult’ rather than ‘negotiate’.